DP11809 Firm-Related Risk and Precautionary Saving Response
We propose a new approach to identify the strength of the precautionary motive
and the extent of self-insurance in response to earnings risk based on Euler equation
estimates. To address endogeneity problems, we use Norwegian administrative data
and instrument consumption and earnings volatility with the variance of firm-specific
shocks. The instrument is valid because firms pass some of their productivity shocks
onto wages; moreover, for most workers firm shocks are hard to avoid. Our estimates
suggest a coefficient of relative prudence of 2, in a very plausible range.